The Taxman Cometh: Worker Misclassification Warning

Everyone is born, everyone dies, and everyone pays taxes. These are three known facts. But during tax season, the known facts are not what endanger a contractor and his business. It is the unknown facts that can cause financial peril and often a financial loss.

With budget deficits rising, Capitol Hill has been inspired to begin new government crackdowns on those making employee classification mistakes on their taxes. Not every infraction is due to purposeful finagling, but unfortunately, ignorance is not a defense when it comes to identifying the misclassification of workers. Addressing this rising problem, President Obama has teamed up with the IRS in hiring 100 more enforcement personnel to see that workers are declared correctly on an employer’s taxes and that the government and the employees receive their dues. The IRS intends to follow up this move with an increase in audits.

CLASSIFICATION QUESTION

The best way to avoid misclassification troubles with the government and possible audits is to hire a tax preparer. If insisting on self-preparing the 2009 return, contractors should ask themselves, “Whom do I work for,” and “For whom do my employees work?” Answer honestly, and then use these answers to make the proper declarations on tax forms. These two questions, however, are just a start. The IRS has created an official 20-point questionnaire designed to help employers make the proper worker classification determination.

This is not an immigration, migrant worker, or legal status issue. Misclassification errors are primarily an issue of money and studies are finding that the infractions stretch across racial and socioeconomic lines spanning businesses great and small. Declaring an employee as an independent contractor denies the state and federal governments of their payroll, social security, and Medicare taxes. It also denies the employee of benefits and protections. These misclassifications can cheat wrongfully labeled independent contractors out of minimum wage mandates and essential benefits such as overtime and health care. It can also leave the so-called independent contractor without access to workman’s compensation in the event of an on-the-job injury.

ARE YOU SERIOUS?

Yes, the federal and state governments are very serious about worker misclassification. Serious enough that Obama included it in his 2010 budget report in the following statement.

“As part of the 2011 budget, the departments of Labor and Treasury are pursuing a joint proposal that eliminates incentives in law for employers to misclassify their employees; enhances the ability of both agencies to penalize employers who misclassify; and restores protections to employees who have been denied them because of their improper classification. This proposal would increase Treasury receipts by more than $7 billion over 10 years.”

According to Ohio Attorney General Richard Cordray, the federal government doesn’t suffer financially nearly as much as the state governments do when contractors misclassify their employees. This is one of the reasons so many states are initiating their own investigations.

In a report released by Cordray, who is mounting his own crackdown initiative in Ohio, a task force was commissioned in 2007 in New York to study and combat worker misclassification. “In this initial study of misclassified workers, researchers found that 10.3 percent of private-sector workers were misclassified in all of the industries audited, and in the construction industry, this number rose to 14.8 percent,” said the report.

CAVEAT LECTOR

Let the reader beware, the misclassification of workers has garnered the national spotlight and consequences for breaking the law are going to be levied. Penalties, back taxes, interest, etc. are all possible demands that will be made of those contractors who choose to skirt around the legalities of worker classification. Sadly, this editorial most likely won’t change the minds of those who are misclassifying purposely. But for those of you who are interested in doing the right thing, it might be a good time - in these few days before tax deadline - to double check and be sure that all of your paperwork is in order and that your employees are properly classified. If you have already filed your taxes, it isn’t too late to file an amendment to your forms. Doing what is right may cost you more sometimes, but it always pays out in the end.

Publication date: 04/05/2010